REMX - REMX: A Good Theme But China Remains The Question

2023-09-26 11:41:10 ET

Summary

• China's economy is in severe trouble, impacting the bull case for rare earth metals and funds related to that theme.
• The VanEck Rare Earth/Strategic Metals ETF provides exposure to companies in the rare earth and strategic metals industry.
• Geopolitical risks, particularly China's dominance in the market, pose challenges for investing in rare earth and strategic metals.

All things excellent are as difficult as they are rare. - Baruch Spinoza

China has been one of the more difficult narratives to time. We started the year with reopening being bullish. We progressed throughout the year with that not being the case. And now we're at the point where it's clear that China's economy is in severe trouble. This is important as it directly relates to another narrative - the bull case for rare earth metals and funds designed to play off that theme.

The VanEck Rare Earth/Strategic Metals ETF ( REMX ) provides exposure to companies operating within the rare earth and strategic metals industry. These companies are involved in the production, refinement, and recycling of rare earth and strategic metals and minerals. The fund seeks to replicate the price and yield performance of the MVIS Global Rare Earth/Strategic Metals Index (MVREMXTR), an index intended to track the overall performance of such companies.

Rare Earth and Strategic Metals Overview

Rare earth elements (REEs) constitute a group of 17 elements, including scandium, yttrium, and the 15 lanthanides. Strategic metals, on the other hand, include minerals such as lithium, cobalt, and molybdenum. Although the term 'rare' implies scarcity, these elements are not as scarce as one might think. For instance, Cerium, a REE, is more common than copper for example.

These metals have gained significant interest due to their increasing use in high-tech applications, especially those related to the global transition towards more sustainable, low-carbon technologies. From defense applications to electric vehicles (EVs), wind turbines, and solar panels, the demand for these metals has surged in recent years.

Market Dynamics and Geopolitical Risks

One significant risk associated with investing in rare earth and strategic metals is the heavy influence of supply-demand trends. As such, the prices of these metals and the companies involved in their extraction and processing can be highly cyclical.

Moreover, due to their classification as 'critical' by many governments, these metals are subject to geopolitical risks. One of the most evident risks is the exposure to China. China dominates the REEs market, and changes in their production processes and policies have an outsized impact on the global supply chain.

As of year-end 2021, China controlled over 60% of the global production in rare earth metals. This dominance has led to concerns and actions from various governments, including the U.S., to reduce their dependency on China for these critical resources. The problem is that as China continues to weaken, they may use their position in the REE space to counter an economic slowdown, which may mean more available supply putting downward pressure on prices overall.

Investing in REMX

REMX invests in companies involved in the extraction and processing of these metals. While physical investment in these metals is not realistic, investing in the companies that handle their production and refinement is a viable option. REMX has 33 holdings, with the top 10 accounting for roughly 60% of the fund's total assets. These companies are involved in various aspects of the industry, from extraction and refinement to recycling.

However, investors should be aware that REMX's portfolio includes a sizable exposure to Chinese companies. As of the latest figures, China-based companies constitute around nearly 1/3rd of the fund's net assets. This might explain why the fund, overall, has not performed well on an absolute basis for years.

Peer Comparison

There aren't that many true competitors on a pure-play basis to REMX. The Amplify Lithium & Battery Technology ETF (BATT) might be somewhat close as that fund invests in the battery metals space. But by comparison, I'd argue REMX is largely competing against itself as the go-to play.

The Bottom-Line

Investing in the VanEck Rare Earth/Strategic Metals ETF presents an opportunity to gain exposure to the growing demand for rare earth and strategic metals. However, this investment is not without risks, particularly geopolitical risks associated with China's dominance in the market. While the long-term investment thesis for these metals remains robust given the ongoing energy transition, the current geopolitical climate and market dynamics may impact the short-to-medium-term performance of the fund. I'd avoid this right now. Momentum clearly isn't there, and China still remains a large headwind.

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